Reputation as Collateral for DeFi
DAOVOTION offers a practical solution for collateralization of loans in DeFi applications, thanks to the Egregore model
DeFi needs a good source of Collateral for Financial Inclusion
In a financial landscape populated by uncertainty and prevalent risks, the aspect that is most appreciated in every DeFi platform is the one that ensures the commitment of obligations and enforces honorable behavior.
Borrowers and obligated parties in a contract must offer a good source of collateral value for demonstrating the degree of commitment in case of failing to fulfill their compromises, and that collateral should satisfy lenders in the absence of the repayments for the contracted obligations. In short, a good collateral must be an asset too valuable for the debtors that they should fear of loosing it.
Indeed, the current limitation of the DeFi industry is precisely the high requirements for collateralizing loans, because of the requirement for high liquidity assets in order to obtain a loan for a less valuable asset. As Giorgio Giuliani expressed in this article, “DeFi applications assume that the user has 0 reputation, mainly because they were developed around a pseudonymous ecosystem. For this reason they have to ask for liquid tokens as collateral, as there is no other way to enforce the future collection of the loan in case of default.”
In the year 2022, the existing DeFi solutions in the market only serve to speculators and traders, as they require extra liquidity for leveraging their operations. But real world users are just excluded from financial services in the blockchain space; they usually won't have a huge amount of liquid capital for staking as collateral. Mostly, people from the working class would need loans for raising a business or buying property, as they only could offer their regular income for repaying their obligations monthly.
For that reason, is desirable to having another mechanism for securing loans with other kind of collateral that won't necessary be equivalent in capital to the amount to lend, but being too valuable for risking it when defaulting obligations. Before the rising of blockchain finance, real world financial services used the Reputation of their costumers for granting them loans, and that reputation is linked to the information of those costumers in a way that banks could estimate the risks of default with accuracy.
At the time of this writing, there is no straightforward way to establish the Reputation of the borrower on-chain. Most recent developments in Open Banking depend on third-party services for building an online reputation for their customers by verifying their real-world identity and storing their personal information in centralized data warehouses. However, this practice opens the door for data breaches and identity theft attacks, as these companies become entirely responsible for managing the clients’ information.
And having detailed costumers data won't offer any guarantee of risk mitigation, because there is no way for coercing individuals for honoring their obligations in a decentralized digital environment. The blockchain is not subjected to any jurisdiction and operates in a global digital space, so is very difficult to enforce any legal action against borrowers.
Therefore, the way to cope with this challenge is to establish a set of simple rules that serve as guidelines and lead the way for emerging competing solutions. Initially, the smartest way to determine borrowers' engagement is not by looking at individual behaviors, but by judging which organizations the borrower is affiliated with.
The Sense of Belonging for the commonly shared patrimony is key for nurturing Honorability
For lenders, it would be more effective to analyze the risk mitigation of a loan agreement at the institutional level. That could be made by just watching over how the polices and statutes of a credit institution ensure the repayment of the debt and enforces oversight control over its affiliates. In the end, lenders don't need to know personal information about each client individually, just knowing that the borrower belongs to a reputable institution.
That's the main feature of Credit Unions, Friendly Societies, and Mutuals, as they allow individuals to acquire financial compromises by pooling the management of counterpart risks to these institutions. The Reputation of all members is managed collectively as a whole.
But also, the risks of defaulting obligations are covered and paid by the organization. Thus, the consequences of the mistakes committed by an individual affect the entire group of affiliates as a whole. They could be detrimental, not only for the economy of the organization but also due to the reputational damage that affects the credit institution.
In order to be sustainable and gain trust from their investors and affiliates, these mutualized societies should take cautious measures when including a new member into the organization, by duly checking the background history of the new member in order to determine how trustworthy is, and its capability of handling obligations responsibly. Also, these organizations would have polices for making their affiliates accountable for their actions and mistakes.
The Egregore Model in DAOVOTION
These concepts of mutually shared responsibility and collective management of trustworthy reputation, constitute the principal value proposition of DAOVOTION platform. It establishes a framework for competing organizations, that would perform as Insurance Institutions that cover the counterpart risks for their affiliates.
In DAOVOTION, each organization may have a different set of polices for enforcing honorable behavior on its members, and may vary on their strategies for covering the risks from financial breaches. But all of them will share the same mechanism for collecting funds and managing their reputation on-chain, with the help of a Smart-Contract solution.
But the sole activity of collecting funds is not enough for cultivating a reputation stronghold. As in Friendly Societies, DAOVOTION defines a type of a mutual organization composed of a body of people who join together for a common social purpose. This kind of organization is called Egregore, and its purpose is to collect funds for the development of Public Goods.
In addition, it could be used to support common causes for the benefit of society. In general, it supports any type of enterprise that produces a positive social impact, and those projects will not need to raise revenue to provide returns to investors as non-profit causes.
As a Decentralized Autonomous Organization (DAO), the most fundamental aspect of an Egregore is that it represents the consolidated will of a group of individuals towards a common goal. Members of an Egregore look after the project’s well-being and manifest a sense of belonging for the commonly shared patrimony, as the Egregore offers support and welfare to its members in compensation.
A carefully designed Tokenomics is key for granting a Public Goods project the ability to offer value to its investors. DAOVOTION establishes a set of rules to incentivize an accountable behavior for both investors and developers by their association to an Egregore created for supporting the commons project.
Investors of an Egregore adopt the role of Devotees; those can be considered sponsors with honorable behavior. They look after Egregores that represent Public Goods projects with a good track of quality and utility offered to its users. The good performance of the project and the honorability of its members is what provides a good Prestige Score to an Egregore.
From that score that represents the reputation of the Egregore, Devotees obtain the intrinsic value from their investments. This Prestige Score grants a derived Reputation value to a Devotee Token, which is considered a collateral asset that can be staked in services that require insurance.
For example, a Devotee Token can be staked as collateral for lending in DeFi applications. Another use case would be securing Oracles that provide accurate reporting in Prediction Markets applications, which means that Devotees could earn money by staking their tokens for information assurance services.
Also by possessing a Devotee Token, investors are entitled to sell new Devotee Tokens to interested clients that want to become members of the Egregore. In that way, Devotees act as brand ambassadors and sales agents for the Egregore, while providing funds for supporting the labor of developers in a Public Goods project. From this activity, as Devotees recruit new members into the organization they'll earn commissions from each token sale.
Egregores perform as Insurance Institutions for supporting DeFi loans, not only by staking their Prestige but also for maintaining an Insurance Vault for repaying owed obligations to Lenders or demanding parties that were affected by the non-fulfillment of the obligations contracted by Devotees. When they use their Devotee Tokens as collateral, they are liable for damages caused by a delinquent loan or failure to secure an information service network.
For testing the truth about the health of the Public Goods projects, DAOVOTION establishes a system for evaluating the efforts in maintaining a good quality track. With Arbitration Trials, Devotees from other projects could act as Jurors and deliberate against a particular Egregore. Its Prestige Score is affected when Jurors evaluate how good or bad are its developers maintaining the quality of the project, and how they're responding to the demands of its users.
From these trials, developers feel the pressure for providing good quality content and pursuing excellence in their efforts, and Devotees become aware of the value appreciation from their investments in the project. Arbitration Trials motivates Authors (creators and maintainers) and Devotees (investors) in working consistently on improving the quality of their productions. Also, they’d be willing to invest more money and effort in correcting issues that affect the user’s experience.
Because the historical performance of the Egregore's Prestige Score is tracked in the blockchain, any interested party could analyze how maintainers are committed to a project’s performance: Not only for the fulfillment of the community expectations about their Public Goods development, but also for the degree of shared responsibility that Devotees perform when honoring their contractual obligations from DeFi applications.
In that way, DAOVOTION Tokenomics stimulates a healthy competence between Egregores, nurturing a dynamic market where Authors and Devotees join forces in maintaining a good reputation for their Egregores and pursuing excellence in their quality efforts, just for offering the best possible value to its users. Egregore members are encouraged to think ahead and make the right decisions for their projects, as they're aware that those Egregores with higher Prestige Score are more attractive to potential investors that are just looking for good quality collateral.